World Development Book Case Studies: Tax avoidance and its impacts in the developing world.

The failure of major global corporations such as Amazon, Starbucks, Boots and Vodafone to pay their proper tax dues in the UK has sparked angry comment from the press and protest groups such as Uncut. The corporations claim they are doing nothing illegal but simply following accountancy advice on how to reduce their tax liabilities and increase their profits. Starbucks has offered to pay more tax in future years but generally corporations see tax avoidance as normal business practice. Why should they pay more tax than they have to? Some of the main tax-avoidance practices are well known.

Corporate Trade Mispricing

As part of their relentless drive to maximize profits and shareholder returns,transnational corporations (TNCs) do whatever they can to avoid paying taxes. As much as two-thirds of all international trade occurs within units of the same corporation, and their ability to operate in multiple countries through numerous subsidiary companies enables them to manipulate their costs internally in order to minimize tax payments. Goods are bought and sold between subsidiaries of the same company in a way that shifts profits to countries where zero or nominal taxes are payable (such as tax havens), while costs are shifted to countries with higher tax rates so that they can offset taxable profits.

Transfer pricing accounts for as much as 60% of all corporate tax avoidance in some countries. Examples include ballpoint pens valued at $8,500 each from Trinidad, or apple juice from Israel valued at $4,121 a litre. Most instances of mispricing are not so extreme, but this dishonest practice allows TNCs to avoid paying over $100bn in taxes to developing countries each year. Publish What You Pay report that over $110bn ‘disappeared' through the mispricing of crude oil alone in the US and EU between 2000 and 2010.

Corporations often combine transfer pricing with ‘false invoicing' and ‘reinvoicing' as a means of further maximizing profits. This occurs between unrelated corporations who collude with one another to fix the price of goods and services traded between them, enabling each to minimize their tax losses. Together, these illicit practices are sometimes referred to as ‘trade mispricing’, which Christian Aid estimates can deprive developing countries of up to $160bn a year.

Share The World’s Resources – 4 Stop Tax Avoidance, October 2012

The basic tax on profits made by big companies is called corporation tax. Many countries have attempted to entice large TNCs to operate within their borders by offering low corporation tax rates and this has resulted in a gradual but continuous decline in global rates of corporation tax in the last 15 years. This ‘race to the bottom’ has been driven by pressure from the large TNCs and been criticised by development organizations. It has obvious parallels with the way that TNCs will relocate in search of the lowest labour costs.

This global competition to attract business is justified as part of neoliberal economic philosophy. In the budget of March 2013 the Chancellor of the Exchequer announced the reduction of UK corporation tax to 21% in April 2014.

This is the lowest rate of any major western economy. It is an advert for our country that says: come here; invest here; create jobs here; Britain is open for business.
George Osborne 20 March 2013

The decline in corporation tax is generally more marked in developing countries because of the pressure that TNCs can bring to bear on governments who are desperate for inward investment.

On average, 37% of government revenue in developed countries comes from tax on the wealth of individuals and businesses. Money from taxation enables governments to finance spending on health, education, welfare and maintaining and improving the national infrastructure. In developing countries, the revenue from taxation is much lower. In Bangladesh and India it is just 8% and 9% respectively of total revenue. The main reason is the difficulty that developing countries have in collecting taxes. The problems are due to a lack of administrative structure, a lack of expertise and a shortage of technology.

Although tax avoidance (legal ways of avoiding tax) and tax evasion (illegal methods of avoiding tax) are important issues for developed countries, there are groups and individuals who think it is a much more serious issue for developing countries. Oxfam has estimated that developing countries alone could be losing up to $124bn annually because of the use of tax havens by the super-rich and tax avoidance by TNCs.

If all developing countries could increase their tax revenues to just 15% of national income, we calculate that $198bn extra each year would be available to spend on education, healthcare and other development activities – more than all overseas aid combined.Oxfam

Associated British Foods and Zambia Sugar case study

The impact of tax avoidance on developing countries was highlighted by an Action Aid report on the alleged activities of Associated British Foods in Zambia.

Zambia profile

SRI farmers regularly use, modify and devise a variety of simple equipment — such as the weeder pictured here – often made locally using inexpensive, widely available materials.
Photo courtesy of Pascal Gnebou.

Zambia is in south-central Africa and from 1800 was a British colony (known as Northern Rhodesia) until it became independent in 1964. After independence, President Kenneth Kaunda imposed a ‘single party participatory democracy’ but in 1991 popular pressure resulted in a multi-party political system and a change of political leadership. In the last 20 years, Zambia has been seen as one of the most politically stable countries in the region and government support for agriculture and increased mining output has seen economic growth averaging 6% in recent years. It is still, however a very poor country. Poverty is widespread. Life expectancy is among the lowest in the world and the death rate is one of the highest – largely due to the prevalence of HIV and AIDS. Some 60% of the population live below the poverty line and the World Bank estimates that 42% are considered to be in extreme poverty. Poverty levels are particularly high in rural areas.

Zambia Sugar is a subsidiary of Associated British Foods and is a major producer of sugar. It is Africa’s biggest sugar producer and has agricultural and manufacturing operations in six African countries; Malawi, Zambia, Tanzania, Swaziland, Mozambique and South Africa. The company produces raw and refined sugar for local, regional and world markets from sugar cane supplied by its own agricultural operations and also independent growers.

The main centre is Mazabuka, where sugar cane is grown on an irrigated estate of over 14,000 hectares. It is also the centre for the processing and marketing of sugar and the production of molasses, which is used as stock feed locally and regionally. Zambia Sugar’s annual production was 246,000 tonnes in 2011 and is expected to rise to 450,000 tonnes in 2013 as a result of an expansion programme. It has 1,800 permanent employees but depends on a large seasonal workforce of over 3,500.

A global food giant

Associated British Foods (ABF) is a hidden giant in the global food industry. You may not know its name, but its products are probably on your kitchen shelves, including well-known UK brands like Kingsmill, Ryvita and Ovaltine. ABF is Britain’s second-largest food and drink manufacturer, and also owns the clothing retail chain Primark.

Beyond Europe, the company’s operations range from yeast factories in Brazil to spice production in India. A FTSE 100 company, ABF has operations in 46 countries and an £11 billion (ZK90 trillion) turnover – almost as large as Zambia’s entire GDP, and nearly three times the Zambian national budget.

ABF is also the biggest sugar producer in the UK, as well as in Africa. Its subsidiary, British Sugar, sells one in every two spoonfuls of sugar consumed in the UK, from the
ubiquitous UK-produced ‘Silver Spoon’ to Fairtrade-certified sugar processed by the group’s sugar mills in Malawi and Zambia and sold in the UK under its ‘Billingtons’ speciality sugar brand.

Action Aid ‘Sweet Nothings’ report February 2013

Between 2007 and 2012 Zambia Sugar made profits of $123million but paid less than 0.5% tax on those profits, even though corporation tax in Zambia is 35%. The Action Aid investigation found that, although the company enjoyed generous capital allowance and tax-relief schemes in Zambia, it still remitted over a third of its profits to countries like Ireland, Mauritius and the Netherlands, which have tax rates that are so low they are effectively tax havens. Zambia has been unable to claim any tax on remittances because it has signed a tax treaty with these countries. Zambia Sugar claims that the money it has saved has gone towards expanding its operation in Zambia but its accounts do show some strange anomalies. The $2.6 million fee paid to an Irish sister company with no employees has been dismissed as ‘an accounting error’.

The Zambian government estimates that it loses over $2 billion a year from tax avoidance by corporations and a few very wealthy people. It is the poorest who contribute most to government tax revenues.

In Zambia 45% of children are malnourished and two-thirds of the population live on less than $2 a day. Yet ordinary people pay their taxes. In some years, small traders who sell the company’s products on roadside stalls and shops and the company’s own sugar-cane cutters have paid more tax, in absolute terms, than the giant multinational.

Action Aid ‘Sweet Nothings Report, February 2013

Why are developing countries at such a disadvantage?

The complexity of international tax regulations for corporations means that developing countries are at an overwhelming disadvantage in discussions with TNCs who employ large numbers of highly paid specialists. Ben Dickinson, head of the OECD’s tax and development programme, said developing countries often ‘don’t have the basic frontline protection’ against unfair profit shifting. Zambian Sugar has negotiated with the Zambian government for $3.6 million annually in tax breaks that can be set against its profits over the next few years. The company admits that between 2008 and 2010 it paid no taxes to the Zambian government at all in spite of earning record profits.

The result of this is depressingly predictable. Since 2007, when ABF first started operations in Zambia, Action Aid estimates that the company has paid $17.7million less than it should in tax to the Zambian government. This is equivalent to a sum of money which is 14 times larger than all the UK aid to Zambia over that period.

The foregone tax revenues in a single year could likely cover the entire cost of the interventions needed to tackle child malnourishment in Zambia.
Action Aid. Sweet Nothings Report, February 2013

The CEO of Associated British Foods, George Weston, earns £918,000 ($1,468,000) a year plus an annual bonus of £864,000 ($1,382,000).The Guardian 9 Feb 2013

It is clear that the tax-avoidance schemes employed by TNCs have a negative impact in all developing countries.

Christian Aid estimates that damage [to developing countries] amounts to somewhere in the region of $160bn (£100bn) each year – money which if it was available to the governments of poorer countries could go somewhere towards improving essential services such as health and education.

The money that developing countries lose each year because of the tax antics of big business is very nearly one-and-a-half times what they receive in terms of aid. So, on the one hand, you’ve got relatively rich governments handing out aid, but at the same time you’ve got the multinationals busy taking out as much as they can from those countries.’ Andrew Hogg, head of media at Christian Aid.

The ‘If’ campaign was launched by a coalition of more than a hundred charities in January 2013 to lobby Prime Minister David Cameron as he was taking up the G8 presidency. The campaign claims that tackling tax avoidance could end world hunger.

It argues that:

Corporate tax avoidance costs developing countries £70 billion a year and if taxes were paid in full the money could be used to save the live of 85,000 children under the age of five in the world’s poorest countries.

Developing countries lose three times as much to tax havens a year as they receive in aid.

If TNCs had paid their taxes, the deaths of 1.4 million in poorer countries since the millennium could have been prevented.

Some developing countries have been successful in increasing the tax paid by TNCs. Colombia and Vietnam recently revised legislation to protect themselves against ‘transfer pricing’ and Colombia’s tax revenues increased by 76% as a result. In Vietnam the audit of a large transnational meant that its tax contribution increased by almost $5m. These are, however, very small successes when set against the total tax liability of TNCs globally. The relative value of increased aid or trade to developing countries used to be a topic of heated debate but the proper payment of tax by TNCs is now seen as being at least as important. Proper payment of taxes would make a huge contribution towards achieving the Millennium Development Goals.

As usual there is no easy answer. TNCs are such powerful organizations that they can put considerable pressure on groups of countries and trade blocs. They can only be tackled by the concerted action of the most powerful and wealthy countries, which would have to agree to rewrite international rules on taxation and the movement of finance. Tax havens would have to be closed down. It is hard to see that happening. What would you do?

There has been a tremendous amount of coverage of this topic in the last six months and there is a lot to read in the press and on the internet. The Action Aid report (Sweet Nothings) is essential for the case study and gives examples of the impact of non-payment in rural parts of Zambia.

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